Why Top High-Frequency Traders Trade from the Gut — and Why You Shouldn’t

That is the conclusion of a study published yesterday by former derivatives trader-turned-neuroscientist John Coates.

After years of focusing on algorithmic trading, researchers like Coates are now examining how some human traders are consistently able to outperform the market.

Coates’ latest research found that top high-frequency traders who follow their hunches make more money and last longer in the business than those who ignore them.

Counting Heartbeats and Interoception

From his perch as a researcher at Cambridge University, Coates examined the physiology of 18 male high-frequency traders working at a major London hedge fund.

High-frequency traders enter and exit positions quickly, with a holding period between a few seconds to a few hours.

Traders and a control group were asked to count their heartbeats, without feeling any pulse points, over irregular periods of time.

Top traders guessed their heartbeat 78.2% of the time, compared with 66.9% for a control group.

The results show risk-takers, who estimated their heart rates with higher accuracy — a test for the inward-looking sense called interoception — were more profitable than traders who evaluated poorly.

Also, the longer the subjects of the study had been working, the more accurate they were. Traders with less than four years of experience scored 68.7%, while those who had been working at least eight years scored 85.3%. Those who were low on interoception were naturally weeded out over time.

Finally, the fitter the trader, the better his ability to detect his heartbeat. A lower body mass index and lower resting heart rate also correlated highly with better interoception.

Instinct versus Algorithms

All this might sound like obscure, pointy-headed academic research — that is, if it did not mesh with what you see among the very best of traders in the real world.

The role of instinct has been long discussed in trading circles — though not so much in the polite company of academic finance.